Lloyds and Royal Bank of Scotland have barely managed to pass stress tests by the Bank of England examining their resilience in a doomsday scenario of plunging house prices and rising rates.
Meanwhile, the Co-op Bank, which had warned that it was likely to fail, was the only one of eight lenders involved to slip up, RBS secured what amounted to a pass only by taking measures to update its capital plan while the tests were held in April.
Co-op is working on a new set-up, but it is not expected to have to raise fresh funds even though the tests found its capital would be all but exhausted in the Bank’s stress scenario.
Threadneedle Street does not like to talk in terms of pass and fail, but the wafer-thin margins by which the two state-backed banks got through raised concerns in the City over how long it will take for them to start paying dividends again.
Both will have to secure permission from the Prudential Regulation Authority, which will make the decision at board level.
Critics said the tests demonstrated that the taxpayer will still ultimately have to act as back-stop in a repeat of the financial crisis of 2007-08.
The tests gauged banks’ ability to withstand a 35 per cent fall in house prices and a spike in inflation leading to a rise in interest rates to 4.2 per cent. They were significantly tougher than those imposed by Europe last year.
RBS, Lloyds and Co-op were always going to find them difficult because they are more exposed to the housing market than other British banks and are still rebuilding their capital. The trio said they are stronger than they were at the start of the process.
Bank of England governor Mark Carney described the exercise as “a demanding test”. He added: “The results show that the core of the banking system is significantly more resilient, that it has the strength to continue to serve the real economy even in a severe stress, and that the growing confidence in the system is merited.”
But analysts at Jeffries said Lloyds’ hopes of an early return to dividends are likely to be dashed. “We believe that expectations that Lloyds will commence a dividend this year are misplaced,” they said, describing the resumption of a payment as “a 2016 event”.
Mike Trippitt of Numis warned that despite the tough criteria, a repeat financial crisis would still leave the taxpayer “on the hook”. He told the BBC: “My own view is that there is not enough capital in the system to avoid that.”
That was backed by Panmure’s chief city commentator David Buik. “Taxpayer on the hook? Definitely,” he said. The City breathed a share of relief as bank shares rose.